All the major central banks meet this in the next 24 hours or so, with primary focus on tonight’s FOMC. The war in the Middle East implies huge uncertainty on the economic outlook. Officials are likely to adopt a ‘wait-and-see’, patient stance to see how the Iran conflict evolves. The Fed risk is for a more hawkish tilt on inflation concerns, with only a few voters needed to tip the balance to no rate cuts predicted this year. That should give near-term support to USD but hurt gold and some equities. Any Fed thinking remains highly conditional on geopolitical events and energy price scenarios. A longer war increases growth risks and impacts the other side of the Fed’s mandate, the (already creaking) labour market.
Recent USD strength
Although GBPUSD and EURUSD have bounced this week, the dollar has still outperformed in recent weeks as it offers primarily more safety and a stronger growth backdrop than Europe or the UK right now. When geopolitical tensions rise and oil prices spike, money tends to flow into the buck, which remains the world’s main reserve currency and the default haven in a risk‑off environment. Europe sits closer to many of these shocks and is more exposed to expensive energy, so the euro and the pound often take the hit instead. The US is now a net energy exporter too, which contrasts with European countries. That mix of risk‑aversion, energy exposure and higher US yields has kept demand for dollars strong and helped the USD beats its major peers.
The interest‑rate gap also still favours the dollar. US policy rates are higher, and the Fed has been slower to talk about cuts than either the BoE or the ECB. That extra yield makes dollar assets more attractive for global investors hunting income, whether they are buying Treasuries, money‑market funds or US credit. Even when EURUSD and GBPUSD enjoy short‑term relief rallies on better data or position‑squaring, this underlying rate advantage has dragged both pairs lower over recent weeks.
Growth is the third big driver. The US economy has generally held up better, while the eurozone and the UK have been flirting with stagnation or very weak growth. Sluggish activity keeps the European and UK central banks cautious and makes returns on local assets less exciting. When traders weigh growth and yield together, the dollar still tends to come out on top.
BoE cutting cycle on pause
Thursday’s BoE and ECB meetings will give us more colour on central banker’s thoughts on the economic impact of the Iran conflict. The Old Lady has already begun easing and had signalled more cuts ahead as UK growth and the labour market soften. Inflation was expected to drift back towards target, giving the MPC more room to cut, while the Fed is still battling stickier US inflation, which keeps US rates relatively higher and supports the dollar against sterling.
The tone the MPC strikes around the timing and size of any future cuts, its language on the energy‑driven inflation shock and its assessment of growth and jobs will be key for cable. If rate setters sound very dovish, talking more about weak growth than inflation risk, the pound can stay under pressure; a more cautious message on cuts would give sterling a better chance to claw back some ground.
ECB cool heads?
The ECB faces a similar but not identical challenge. The eurozone has weaker growth and higher sensitivity to energy prices, so the bank is trying to support the economy without letting inflation expectations drift higher again. That tricky balance has made investors less keen to hold euros than dollars. Focus will be on the new inflation and growth forecasts scenarios and how they treat the latest energy shock, as well as President Lagarde’s tone on whether the ECB is prepared to act and potentially tighten policy if needed.
Any hint on how worried the policymakers are about a weaker euro feeding back into inflation will also matter. If the ECB leans dovish and focuses on slow growth, EURUSD is likely to stay on the back foot; if it pushes a firmer anti‑inflation line and plays down the chance of early cuts, the euro could start to win back some of the ground it has lost to the dollar.